Don't Do It
Don't do it Federalies, Credit contracting, real rate shocker, worshiping false slack model idols, earnings season
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Micheal Green's Yes, I Give a FIG
Don’t Do It
The probability of a rate hike in July is currently 89%. While the tendency for investors is to assume another hike is fully discounted, therefore it will not have any impact on markets and economic activity, in our view another hike would be a mistake. There has not been a change in the laws of economics, monetary policy does work with long and variable lags, and this week’s labor market data contained evidence that tighter credit is impacting the large, opaque, small business sector. Additionally, while the Fed rarely discusses the yield curve and Chairman Powell and his followers on the Committee have been characterizing credit tightening as no more than what they expected in response to 500bp of rate hikes, the magnitude of the inversion is extremely rare, with only three episodes in post-war history (August ‘73, March ‘80, and December ‘80) anywhere approaching current levels. None of the other inversions of the 3m10y (notes less bills) exceeded 50bp on a monthly basis. The 1980 Volcker inversions started the process of destroying the S&L industry that supplied 80% of mortgage credit in the ‘70s.
In our note last week, PTSD or Productivity Boom, we argued that a continuation of the rally required labor market and inflation data cooperation. After getting whipsawed by a questionable ADP report that was released minutes after we completed a CNBC appearance where we asserted demand for labor was softening, we were vindicated by the BLS June employment situation report’s 209,000 increase in nonfarm payrolls, combined with a negative revision of 110,000 to the prior two months. As we explain later in the note, the marginally hotter than expected average hourly earnings increase was no reason for concern, service producing industries wages are cooling, damaging Chairman Powell’s core services less shelter inflation process thesis further. The supply of labor continues to improve and the twin curves, Beveridge and Phillips, have gone vertical. In other words, wages are falling although these measures of slack remain tight. Next week’s CPI report will be lapping the hottest inflation prints of the post-pandemic cycle, and though core disinflation is lagging all items CPI, core services less rent of shelter and shelter are likely to push core inflation lower towards headline through 1Q24. Besides CPI, PPI and import prices next week, it is the beginning of 2Q23 earnings season, which will be crucial towards determining whether the GDI/earnings recession is ending. We preview earnings, review the labor data and analyze the impact of the real rate shock of recent weeks in this week’s note.